HomeU.S.US EconomyThe Silicon valley bank crisis. Here's everything you need to know

The Silicon valley bank crisis. Here’s everything you need to know

With the month of march, began the troubles at the Silicon Valley Bank, Santa Clara, California. This came long after the largest economic crisis of 2008. Following up on that, SVB came under the radar of US regulators a decade ago.

As of today, it has collapsed and the UK arm of the bank is to be acquitted by HSBC in an attempt to diversify their company. Among other bidders, Elon Musk has come forward to state that he is very much open to undertaking the bank and digitalising it. After rigorous scrutiny, the bank has shut down its operations although it is still facilitating the services for the crypto-users. With support from the bridge bank, normal operations are expected to start soon.

SVB’s problems began when several depositors requested to withdraw or transfer their money to other institutions. This highlights the risks associated with online banking, where deposits can be lost in a matter of moments. As per the statement released, the Federal Reserve Board has announced its plans to offer additional funding to eligible depository institutions to ensure they can meet the needs of all depositors.

The move is aimed at ensuring the US banking system continues to support deposit safety and provides credit access to households and businesses, while also promoting strong and sustainable economic growth. Among various issues that motivated the regulators to shut down the bank, some prominent ones were the issues with balance sheets, the risk of concentration with deposits, the weak regulation, and the persistent risk of creating a moral hazard.

The major issue with the balance sheets of the bank was that while most banking crises stem from poor lending practices, a part of SVB’s problem was actually due to its lack of lending. Generally, banks take deposits and other liabilities and then lend a substantial portion to create loans and other assets. However, SVB invested most of its deposits into other channels, rather than focusing on the credit function. Secondly, there was a considerable asset-liability mismatch (ALM). This technical term refers to a situation where a bank has short-term deposits but purchases long-duration securities, creating an imbalance between its assets and liabilities. While this is a common practice among banks, SVB’s ALM was particularly pronounced.

The risk of concentration of deposits made goes against the fundamentals taught to trainees in the banking industry. However, as with many other human endeavours, these basic principles are often forgotten over time. Additionally, SVB had several other issues, such as running a concentration risk by relying heavily on deposits from Venture Capital (VC) funded startups and crypto companies. There was no acknowledgement that although the company accounts were separate, many of them were controlled by a small group of venture capital firms, making the bank’s portfolio more concentrated than it seemed. This concentration risk exacerbated the run on the bank as certain VC firms advised their investee companies to transfer their deposits to other institutions due to concerns about the bank’s risk profile.

SVB had lower regulatory oversight than larger banks like Citigroup and JP Morgan, likely due to its assets being below $250 billion. The assumption was that these smaller banks were not systemically important, but this proved to be false. Despite this regulatory environment, neither internal nor external parties closely examined the bank’s risks, and the bank continued to be praised as one of the best in the US until shortly before the crisis. Along with that, it was discovered that the bank had not had a Chief Risk Officer for several months leading up to the crisis. The crisis had been developing behind the scenes for some time. Interest rates had been rapidly rising in the US, increasing by 4.5 percentage points in less than a year from near-zero levels.

In the long run, the bank was under the persistent risk of moral hazard, where bankers or other players may take excessive risks because they are aware that they will be bailed out if things go wrong. However, the extent of this impact is debatable since SVB’s shareholders will lose their investments, and unsecured bondholders will likely suffer losses as well. Nonetheless, the management has retained their compensation, including bonuses. This crisis may also indirectly affect the markets by changing the Fed’s stance on rate hikes and tightening. The market reacted rapidly with a 60 basis points (0.6 percentage points) decline in two-year yields in a single day, higher than what occurred during Black Monday in 1987.

Regardless of the outcome, a solitary banking crisis has undoubtedly altered the perspective of both bond and equity markets.

Priyanshi Mishra
Priyanshi Mishra
Priyanshi Mishra is a student of MA in Economics at the University of Lucknow. She has strong communication and content-writing skills.
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